IRAs, the SECURE Act and trusts

[Dash man]

We signed new trust documents today, and a major change we made was to our IRA trusts. With the new SECURE Act, the law has changed to require full distribution of the IRA within ten years. I know many here just adjust the beneficiaries to go directly to your heirs, but this can lead to vulnerability in the case of lawsuits or divorce once that money is out of the IRA. We designed our trusts so our IRA’s beneficiaries will be an Accumulation Trust, where the kids can leave the funds in to grow, or choose to take it and use it as they see fit. Taxes will have to be paid on the IRA money as it is transferred into the trust, and a separate tax return will need to be filed for the trust. But the money is protected for the life of the trust, which depends on your state. In our case it can be passed on to future generations.

I haven’t seen this discussed here and didn’t find anything in a search, so I thought I’d throw it out there.

 

[pb4uski]

I think I get it... if the kids are sued or get divorced then the trust's assets held for their benefit are not at risk.

So when the money is transferred to the Accumulation Trust is it taxed at the kids (trust beneficiaries) tax rate or a trust tax rate?

 

[Dash man]

I think I get it... if the kids are sued or get divorced then the trust's assets held for their benefit are not at risk.

So when the money is transferred to the Accumulation Trust is it taxed at the kids (trust beneficiaries) tax rate or a trust tax rate?

It would be taxed at a trust rate. So you have to weigh the risk vs. the cost. We did it because that will be the boy’s decision. We’re giving them the protection, but they can take the money out if they desire.

 

[SecondCor521]

I'm glad you started this thread; I was curious what the change was that you were making, and now I understand.

I'm sure you know this, but in general there are two important things I've learned about this area: (1) Trust tax rates are a lot higher / more aggressive than individual tax rates, and (b) they can be generally avoided by something called Distributed Net Income, where the trust income gets distributed to the beneficiaries and taxed on their returns instead of on the trust's return.

Oh, one other minor interesting thing as well: DNI can be distributed within the first 60 days of the following calendar year and still be treated as part of the previous tax year. So you have that 60 days to do the math with all the figures and figure out the best way to minimize the taxes. For more details, google "663(b) election" or take a look at the 2019 Form 1041, Other Information, question 6.

 

[Dash man]

I'm glad you started this thread; I was curious what the change was that you were making, and now I understand.

I'm sure you know this, but in general there are two important things I've learned about this area: (1) Trust tax rates are a lot higher / more aggressive than individual tax rates, and (b) they can be generally avoided by something called Distributed Net Income, where the trust income gets distributed to the beneficiaries and taxed on their returns instead of on the trust's return.

Oh, one other minor interesting thing as well: DNI can be distributed within the first 60 days of the following calendar year and still be treated as part of the previous tax year. So you have that 60 days to do the math with all the figures and figure out the best way to minimize the taxes. For more details, google "663(b) election" or take a look at the 2019 Form 1041, Other Information, question 6.

Thanks! I knew the first part, but not the sect. I’ll point that out to our boys so they’re aware.

 

[SecondCor521]

The most understandable discussion I've found on DNI is here:

https://www.kitces.com/blog/distrib...-tax-strategies-for-non-grantor-bypass-trust/

(Of course, before relying on the above article or me (SGOTI), make sure that the rules apply to your kind of trust. I'm sure you would.)

 

[OldShooter]

This is real headache stuff, but people interested in this might also be interested in another wrinkle:

We have a special needs grandchild and are setting up a testamentary trust for him. We expect that his needs will extend past the 10 year deadline for liquidating tax-sheltered accounts. So our plan directs our executor to fund his trust with assets from our Roths. Since there are no taxes on the Roth proceeds, the trustee can liquidate within the 10 year window but not have to distribute the proceeds to avoid taxes. The proceeds can stay in the trust untaxed. Subsequent investment earnings may be taxed but IIRC only to the extent they are undistributed. So the trust is its own little tax shelter.

 

[SecondCor521]

This is real headache stuff, but people interested in this might also be interested in another wrinkle:

We have a special needs grandchild and are setting up a testamentary trust for him. We expect that his needs will extend past the 10 year deadline for liquidating tax-sheltered accounts. So our plan directs our executor to fund his trust with assets from our Roths. Since there are no taxes on the Roth proceeds, the trustee can liquidate within the 10 year window but not have to distribute the proceeds to avoid taxes. The proceeds can stay in the trust untaxed. Subsequent investment earnings may be taxed but IIRC only to the extent they are undistributed. So the trust is its own little tax shelter.

Does your grandchild qualify for the "disabled person" exception in the SECURE Act to the 10 year rule?

https://www.kiplinger.com/retiremen...n-still-do-a-stretch-ira-after-the-secure-act

See item 4 in the above article. Your testamentary trust setup may not even be required, but you may still want to do it for other reasons or due to the rest of your financial picture.

 

[Brat]

This is real headache stuff, but people interested in this might also be interested in another wrinkle:

We have a special needs grandchild and are setting up a testamentary trust for him. We expect that his needs will extend past the 10 year deadline for liquidating tax-sheltered accounts. So our plan directs our executor to fund his trust with assets from our Roths. Since there are no taxes on the Roth proceeds, the trustee can liquidate within the 10 year window but not have to distribute the proceeds to avoid taxes. The proceeds can stay in the trust untaxed. Subsequent investment earnings may be taxed but IIRC only to the extent they are undistributed. So the trust is its own little tax shelter.

Be careful with this. If the assets are not in a special needs trust the grandchild will lose public benefits where assets are a factor. They are expensive to establish and administer. My mother used this for a grandson: https://www.oregonsnt.org/ The costs were minimal.

 

[OldShooter]

Be careful with this. If the assets are not in a special needs trust the grandchild will lose public benefits where assets are a factor. They are expensive to establish and administer. My mother used this for a grandson: https://www.oregonsnt.org/ The costs were minimal.

Thanks. Yes. A special needs trust is exactly what will be set up. Our plan is that Schwab will be the trustee at (IIRC) something like 70bps.

I sniffed around the Oregon thing a bit; I had not heard of something like that before, but their fees are higher than even DW's megabank trust department would have charged. Looks like in the neighborhood of 2% per year. For $500K, "Admin" 1%, "Investment" 0.95%, "Annual" 0.2%. Total size of the trust (from parent org's tax return) is only about $20M, so that accounts for the high fees. Listed investment advisor John Gomez of Key Private Bank does not appear to have ever been registered with FINRA. Key Bank is the real deal, but I could not figure out what piece is registered, though they must be somehow. Running only $20M though makes me guess that they are using mutual funds, so there are probably additional fees buried there.

Checking further there seem to be a lot of these, probably with different fees. The attraction would be more specific expertise than Schwab has. I'll ask our estate attorney. Thx.

 

[gauss]

Just thinking out loud here, but the question that I have would be how would the differential tax rates applied to the trust vs an individual compare to just buying an umbrella policy to cover the assets outright?

If the trust assets do not generate any current income (ie Berkshire Hathaway like investments) maybe this is a non-issue after all.

-gauss

 

[Dash man]

Just thinking out loud here, but the question that I have would be how would the differential tax rates applied to the trust vs an individual compare to just buying an umbrella policy to cover the assets outright?

If the trust assets do not generate any current income (ie Berkshire Hathaway like investments) maybe this is a non-issue after all.

-gauss

Umbrella insurance does not protect assets in a divorce.
Umbrella insurance doesn’t directly protect other assets, only indirectly by raising the level before other assets can be touched. If you have $3M after taxes are paid on an inherited IRA with the funds now sitting in a brokerage account, with a $3M umbrella policy, but you are in an accident that results in a $5M award to the other party, you will lose $2M out of your account. Yes, it is unlikely, but not unheard of. If the award is larger than the sum of your insurance plus your assets, you’ll be filing bankruptcy and eating cat food.
I know people can argue the there will likely be a settlement for the insurance, but I don’t want to take a chance, nor for my sons to take a chance.

 

[Brat]

Thanks. Yes. A special needs trust is exactly what will be set up. Our plan is that Schwab will be the trustee at (IIRC) something like 70bps.

I sniffed around the Oregon thing a bit; I had not heard of something like that before, but their fees are higher than even DW's megabank trust department would have charged. Looks like in the neighborhood of 2% per year. For $500K, "Admin" 1%, "Investment" 0.95%, "Annual" 0.2%. Total size of the trust (from parent org's tax return) is only about $20M, so that accounts for the high fees. Listed investment advisor John Gomez of Key Private Bank does not appear to have ever been registered with FINRA. Key Bank is the real deal, but I could not figure out what piece is registered, though they must be somehow. Running only $20M though makes me guess that they are using mutual funds, so there are probably additional fees buried there.

Checking further there seem to be a lot of these, probably with different fees. The attraction would be more specific expertise than Schwab has. I'll ask our estate attorney. Thx.

At the time that SNT was new and the only program available. Let me assure you they earned their fees, my nephew had schizophrenia and was indulged by his mother - a difficult person.